Mind the Gap: Canada is Falling Behind the Standard-of-Living Curve: TD Economics

Despite turning in solid headline growth in recent years, Canada has lagged behind the U.S. and other advanced economies in terms of standard of living performance (or real GDP per capita), says a report by TD Economics.

James Wheeler

“This underperformance accelerated after the 2014-15 oil price shock and has continued in the wake of the pandemic. What’s more, little turnaround appears to be on the horizon,” says the report.

“There may be a tendency to pin the blame for Canada’s sagging per-capita showing on the country’s rapidly-growing population base given that it has inflated the denominator of the calculation. However, at the crux of the problem is insufficient growth in the numerator, which in turn is tied to longstanding productivity issues.

“Regionally, commodity-based economies (Alberta, Saskatchewan, and Newfoundland & Labrador) continue to record the highest per-capita GDP levels, but their status as leaders has come under some pressure over the past decade. Post-pandemic, only British Columbia and PEI have managed to recover back to 2019 GDP per capita levels.”

In the decade ahead of the pandemic, Canada matched the U.S. tit-for-tat in terms of average growth at just over two per cent per year, above the 1.4 per cent G-7 average. And in the post-pandemic years, the country managed to shake off among the deepest contractions in 2020 to record the second fastest average expansion. A key driver of the outperformance has been the country’s longstanding trend of strong population gains, which have easily outpaced those of other advanced economies. The Canada-G7 gap on headcount has swelled further since 2020, says the report.

“But when adjusting for the rising population, Canada’s real GDP per capita has been deteriorating for many years. At the start of the 1980s, Canada enjoyed an edge against the average of advanced economies of almost US$4,000 while keeping fairly level with U.S. estimates. By 2000, this advantage had all but evaporated, and U.S. per capita GDP had pulled ahead of Canada’s to the tune of over US$8,000. Still, since the 2014-15 oil shock, Canada’s performance has gone from bad to worse. Canadian real GDP per capita has grown at a meagre rate of only +0.4 per cent annually, paling in comparison to the advanced economy average of +1.4 per cent,” says TD Economics.

“At first glance, it may be easy to point the finger at rapid population growth as the solo driver of poor per-capita GDP given that it has inflated the denominator of the calculation. However, this is an oversimplification that masks the true story. Canadian headcount is currently running at a historic three per cent y/y pace, but that is a very recent development. Indeed, average population growth since 2020 (1.2 per cent) has only run a hair higher than its pre-2000 pace. In contrast, real GDP growth has been trending downwards since the 1980s. This implies that the real culprit is insufficient growth in the numerator (real GDP). In other words, Canada was able to sustain higher GDP growth rates in prior decades at population growth levels similar to today.

“At the core of the issue is a sagging productivity showing that has been plaguing the Canadian economy for many years despite the well-intentioned moves of this countries’ policymakers to try and address it. When measured on a real GDP per hour worked basis, Canadian labour productivity has been trailing behind its peers, notably the U.S. Even in the face of the productivity woes, Canada has been able to sustain a higher level of output in recent years through both an unsustainable pace of job creation and in total hours worked.”

TD says a number of factors are often blamed on Canada weak productivity showing. For one, investments in nonresidential structures, machinery & equipment, and intellectual property have been lackluster since 2015. The use of these inputs makes labour more effective, and a comparison to trends stateside shows significantly weaker capital intensity north of the border.

The report says the problem can be also attributed to a decline in research & development (R&D) spending, which has led to an “innovation gap”. Over the last 20 years, Canadian R&D investment has been in perpetual decline, while all other G7 countries have seen increases to varying degrees. This issue is being compounded by already-low absolute levels of R&D investment as a per cent of GDP. As of 2021, Canadian R&D spending accounted for roughly 1.7 per cent of GDP, half of the current U.S. share and lower than most other countries.

“It is becoming increasingly difficult to ignore Canada’s widening real GDP per capita gap versus other major economies. The issue has largely flown under the radar as the Canadian economy seemingly masked ongoing productivity issues with what appears to be unsustainable growth via adding more workers. The crux of the problem remains the same: a sagging performance in labour productivity,” says TD.

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Mind the Gap: Canada is Falling Behind the Standard-of-Living Curve: TD Economics

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Mind the Gap: Canada is Falling Behind the Standard-of-Living Curve: TD Economics

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Home sales jump in Canada: CREA

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